Portfolio optimization under dynamic risk constraints: continuous vs. discrete time trading

Imke Redeker and Ralf Wunderlich

Papers from arXiv.org

Abstract: We consider an investor facing a classical portfolio problem of optimal investment in a log-Brownian stock and a fixed-interest bond, but constrained to choose portfolio and consumption strategies that reduce a dynamic shortfall risk measure. For continuous- and discrete-time financial markets we investigate the loss in expected utility of intermediate consumption and terminal wealth caused by imposing a dynamic risk constraint. We derive the dynamic programming equations for the resulting stochastic optimal control problems and solve them numerically. Our numerical results indicate that the loss of portfolio performance is not too large while the risk is notably reduced. We then investigate time discretization effects and find that the loss of portfolio performance resulting from imposing a risk constraint is typically bigger than the loss resulting from infrequent trading.

Date: 2016-02, Revised 2017-08
New Economics Papers: this item is included in nep-cmp, nep-rmg and nep-upt
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